UNITED STATES SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-Q

(Mark One)

|X|   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
      EXCHANGE ACT OF 1934

      For the quarterly period ended September 30, 2003.

|_|   TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
      EXCHANGE ACT OF 1934

      For the transition period from _________________ to _________________

                         Commission File Number 0-23971

                       Citizens South Banking Corporation
             (Exact name of registrant as specified in its charter)

              Delaware                                     54-2069979
   (State or other jurisdiction of                      (I.R.S. Employer
    incorporation or organization)                    Identification Number)

            245 West Main Avenue, Gastonia, North Carolina 28052-4140
                    (Address of principal executive offices)

       Registrant's telephone number, including area code: (704)-868-5200


--------------------------------------------------------------------------------
Former name, former address and former fiscal year, if changed since last report

      Indicate by check |X| whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|

      Indicate by check |X| whether the Registrant is an accelerated filer. Yes
|_| No |X|

      Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date:

                          Common stock, $0.01 par value
              8,668,620 shares outstanding as of October 22, 2003.


<PAGE>

Citizens South Banking Corporation

                                      INDEX

                                                                            Page
                                                                            ----
PART I.  FINANCIAL INFORMATION

     Item 1.   Consolidated Financial Statements...........................    1

          Consolidated Statements of Financial Condition
                September 30, 2003 and December 31, 2002 ..................    1

          Consolidated Statements of Operations
              three and nine months ended September 30, 2003 and 2002 .....    2

          Consolidated Statements of Comprehensive Income
              nine months ended September 30, 2003 and 2002................    3

          Consolidated Statements of Changes in Stockholders' Equity
              nine months ended September 30, 2003 and 2002................    4

          Consolidated Statements of Cash Flows
              nine months ended September 30, 2003 and 2002................    5

          Notes to Consolidated Financial Statements.......................    6

     Item 2. Management's Discussion and Analysis of Financial Condition
             and Results of Operations.....................................   11

     Item 3. Quantitative and Qualitative Disclosures About Market Risk....   19

     Item 4. Controls and Procedures.......................................   19

PART II. OTHER INFORMATION.................................................   19

SIGNATURES.................................................................   21

Exhibit 31.1   Certification of Chief Executive Officer Pursuant
               to Section 302 of the Sarbanes-Oxley Act of 2002............   22

Exhibit 31.2   Certification of Chief Financial Officer Pursuant
               to Section 302 of the Sarbanes-Oxley Act of 2002............   23

Exhibit 32.1   Statement of Chief Executive Officer Furnished Pursuant
               to Section 906 of the Sarbanes-Oxley Act of 2002............   24

Exhibit 32.2   Statement of Chief Financial Officer Furnished Pursuant
               to Section 906 of the Sarbanes-Oxley Act of 2002............   25


<PAGE>

PART I. FINANCIAL INFORMATION

      ITEM 1. Consolidated Financial Statements

Citizens South Banking Corporation
Consolidated Statements of Financial Condition
(dollars in thousands, except per share data)

<TABLE>
<CAPTION>
                                                                                   September 30,   December 31,
                                                                                       2003            2002
                                                                                   -------------   ------------
                                                                                    (unaudited)
<S>                                                                                  <C>            <C>
Assets:
Cash and due from banks ........................................................     $   5,697      $   7,607
Interest-earning bank balances .................................................        13,830         39,392
                                                                                     ---------      ---------
   Cash and cash equivalents ...................................................        19,527         46,999
Investment securities available-for-sale, at fair value ........................        52,869         39,594
Mortgage-backed and related securities available-for-sale, at fair value .......        85,406         70,409
Loans receivable, net unearned income ..........................................       291,706        302,901
Allowance for loan losses ......................................................        (3,007)        (2,995)
                                                                                     ---------      ---------
   Loans, net ..................................................................       288,699        299,906
Real estate owned ..............................................................           169          1,307
Accrued interest receivable ....................................................         1,783          1,913
Premises and equipment, net ....................................................        13,772          8,807
Federal Home Loan Bank stock ...................................................         2,575          2,639
Cash value of life insurance policies ..........................................        10,202          6,834
Core deposit intangible ........................................................         1,161          1,484
Goodwill .......................................................................         6,670          6,670
Other assets ...................................................................         6,508          6,005
                                                                                     ---------      ---------
   Total assets ................................................................     $ 489,341      $ 492,567
                                                                                     =========      =========

Liabilities and Stockholders' Equity:
Noninterest demand deposit accounts ............................................     $  11,056      $  11,203
Interest-bearing demand deposit accounts .......................................        29,661         25,773
Money market deposit accounts ..................................................        47,364         35,811
Savings accounts ...............................................................        38,035         43,670
Time deposits ..................................................................       213,503        224,405
                                                                                     ---------      ---------
   Total deposits ..............................................................       339,619        340,862
Borrowed money .................................................................        51,455         47,575
Advances from borrowers for taxes and insurance ................................           711            440
Accrued interest payable .......................................................           161            382
Other liabilities ..............................................................         5,728          6,925
                                                                                     ---------      ---------
   Total liabilities ...........................................................       397,674        396,184

Common stock, $0.01 par value, 20,000,000 shares authorized, 8,799,055 shares
   issued and outstanding at September 30, 2003, 9,062,727 shares issued
   and outstanding at December 31, 2002 ........................................            88             91
Additional paid-in-capital .....................................................        68,327         68,176
Unallocated common stock held by Employee Stock Ownership Plan .................        (2,024)        (2,162)
Retained earnings, substantially restricted ....................................        29,549         28,739
Accumulated unrealized gain on securities available-for-sale, net of tax .......           399          1,539
Treasury stock of 263,672 shares, at cost ......................................        (4,672)             0
                                                                                     ---------      ---------
   Total stockholders' equity ..................................................        91,667         96,383
                                                                                     ---------      ---------
   Total liabilities and stockholders' equity ..................................     $ 489,341      $ 492,567
                                                                                     =========      =========
</TABLE>

See accompanying notes to consolidated financial statements.


                                       1
<PAGE>

Citizens South Banking Corporation
Consolidated Statements of Operations (unaudited)
(dollars in thousands, except per share data)

<TABLE>
<CAPTION>
                                                                    Three Months                Nine Months
                                                                 Ended September 30,        Ended September 30,
                                                                 -------------------        -------------------
                                                                 2003          2002          2003         2002
                                                              ----------    ----------    ----------   ----------
<S>                                                           <C>           <C>           <C>          <C>
Interest Income:
Loans .....................................................   $    4,077    $    5,302    $   12,910   $   16,316
Investment securities .....................................          311           386         1,000        1,064
Interest-bearing deposits .................................           57           130           219          345
Mortgage-backed and related securities ....................          761           336         2,625          921
                                                              ----------    ----------    ----------   ----------
  Total interest income ...................................        5,206         6,154        16,754       18,646

Interest Expense:
Deposits ..................................................        1,603         1,958         5,037        6,077
Borrowed funds ............................................          599           575         1,779        1,672
                                                              ----------    ----------    ----------   ----------
  Total interest expense ..................................        2,202         2,533         6,816        7,749

Net interest income .......................................        3,004         3,621         9,938       10,897
Provision for loan losses .................................           15            70            45          205
                                                              ----------    ----------    ----------   ----------
  Net interest income after provision for loan losses .....        2,989         3,551         9,893       10,692

Noninterest Income:
Fee income on deposit accounts ............................          614           598         1,791        1,691
Income on mortgage banking and other lending activities ...          241           183           754          498
Dividends on FHLB stock ...................................           21            45            79          144
Gain on sale of assets ....................................          108            11           168          119
Fair value adjustment on deferred comp. investments .......           (8)          (12)          178          (62)
Other noninterest income ..................................          183           241           631          598
                                                              ----------    ----------    ----------   ----------
  Total noninterest income ................................        1,159         1,066         3,601        2,988

Noninterest Expense:
Compensation and benefits .................................        1,511         1,345         4,499        4,042
Fair value adjustment on deferred compensation ............           (8)          (12)          178          (62)
Occupancy and equipment expense ...........................          349           353           993        1,063
Professional services .....................................          113            52           444          230
Amortization of intangible assets .........................           91           200           323          808
Loss on sale of assets ....................................           85             0            99           17
Prepayment penalty on FHLB advances .......................        1,289             0         1,289           65
Other noninterest expenses ................................          718           828         2,217        2,347
                                                              ----------    ----------    ----------   ----------
  Total noninterest expense ...............................        4,148         2,766        10,042        8,510

Income before income taxes ................................            0         1,851         3,452        5,170

Provision for income taxes ................................          (94)          651         1,028        1,847
                                                              ----------    ----------    ----------   ----------

Net income ................................................   $       94    $    1,200    $    2,424   $    3,323
                                                              ==========    ==========    ==========   ==========

Basic earnings per share ..................................   $     0.01    $     0.14    $     0.28   $     0.38
Diluted earnings per share ................................   $     0.01    $     0.13    $     0.28   $     0.37

Basic average common shares outstanding ...................    8,596,575     8,790,445     8,670,591    8,779,548
Diluted average common shares outstanding .................    8,752,979     8,945,186     8,810,380    8,863,041
</TABLE>

See accompanying notes to consolidated financial statements.


                                       2
<PAGE>

Citizens South Banking Corporation
Consolidated Statements of Comprehensive Income (unaudited)
(dollars in thousands)

<TABLE>
<CAPTION>
                                                                              Nine Months Ended
                                                                                 September 30,
                                                                             --------------------
                                                                               2003        2002
                                                                             --------    --------
<S>                                                                          <C>         <C>
Net income ...............................................................   $  2,424    $  3,323
Other comprehensive income, net of tax:
    Unrealized gains on securities available for sale:
        Unrealized holding gains arising during period ...................      1,183         528
        Reclassification adjustment for (gains) included in net income ...        (43)        (45)
                                                                             --------    --------
    Other comprehensive income ...........................................      1,140         483
                                                                             --------    --------

Comprehensive income .....................................................   $  3,564    $  3,806
                                                                             --------    --------
</TABLE>

See accompanying notes to consolidated financial statements.


                                       3
<PAGE>

Citizens South Banking Corporation
Consolidated Statements of Changes in Stockholders' Equity (unaudited)
(dollars in thousands)

<TABLE>
<CAPTION>
                                                                                 Nine Months Ended
                                                                                    September 30,
                                                                                --------------------
                                                                                  2003        2002
                                                                                --------    --------
<S>                                                                             <C>         <C>
Common stock:
At beginning of period ......................................................   $     91    $  4,581
Exercise of options .........................................................          0          24
Issuance of common stock ....................................................          0      (4,514)
Repurchase of common stock ..................................................         (3)          0
                                                                                --------    --------
At end of period ............................................................         88          91
                                                                                --------    --------
Additional paid-in-capital:
At beginning of period ......................................................     68,176      16,843
Allocation from shares purchased with loan from ESOP ........................          1           0
Exercise of options .........................................................        150         265
Issuance of common stock ....................................................          0      51,273
                                                                                --------    --------
At end of period ............................................................     68,327      68,381
                                                                                --------    --------

Unallocated common stock held by ESOP:
At beginning of period ......................................................     (2,162)     (1,240)
Loan to ESOP for purchase of common stock ...................................          0      (1,052)
Allocation from shares purchased with loan from ESOP ........................        138          85
                                                                                --------    --------
At end of period ............................................................     (2,024)     (2,207)
                                                                                --------    --------

Retained earnings, substantially restricted:
At beginning of period ......................................................     28,739      25,105
Net income ..................................................................      2,424       3,323
Cash dividends declared on common stock .....................................     (1,614)       (421)
                                                                                --------    --------
At end of period ............................................................     29,549      28,007
                                                                                --------    --------

Accumulated unrealized gain on securities available for sale, net of tax:
At beginning of period ......................................................      1,539       1,116
Other comprehensive results, net of tax .....................................     (1,140)        483
                                                                                --------    --------
At end of period ............................................................        399       1,599
                                                                                --------    --------

Treasury Stock:
At beginning of period ......................................................          0      (4,776)
Cancellation of common stock ................................................          0       4,776
Repurchase of common stock ..................................................     (4,672)          0
                                                                                --------    --------
At end of period ............................................................     (4,672)          0
                                                                                --------    --------
</TABLE>

See accompanying notes to consolidated financial statements.


                                       4
<PAGE>

Citizens South Banking Corporation
Consolidated Statements of Cash Flows (unaudited)
(dollars in thousands)

<TABLE>
<CAPTION>
                                                                                           Nine Months Ended
                                                                                              September 30,
                                                                                          --------------------
                                                                                            2003        2002
                                                                                          --------    --------
<S>                                                                                       <C>         <C>
Cash flows from operating activities:
  Net income ..........................................................................   $  2,424    $  3,323
  Adjustments to reconcile net income to net cash provided by operating activities:
      Provision for loan losses .......................................................         45         205
      Depreciation ....................................................................        494         609
      (Gain) on sale of investments, available for sale ...............................        (68)        (70)
      (Gain) on sale of other assets ..................................................         (1)        (33)
      Purchase of bank-owned life insurance ...........................................     (3,000)          0
      Deferred loan origination fees ..................................................         56         (26)
      Allocation of shares to the ESOP ................................................        140          85
      (Increase) decrease in accrued interest receivable ..............................        130        (393)
      Amortization of intangible assets ...............................................        323         808
      (Increase) decrease in other assets .............................................        772       2,734
      Increase (decrease) in other liabilities ........................................     (2,204)       (597)
                                                                                          --------    --------
        Net cash provided by (used for) operating activities ..........................       (889)      6,645

Cash flows from investing activities:
  Net decrease in loans receivable ....................................................     11,106      21,837
  Proceeds from the sale of loans .....................................................          0       1,418
  Proceeds from the sale of investment securities .....................................      7,000       2,000
  Proceeds from the sale of mortgage-backed securities ................................     11,233       3,066
  Proceeds from the sale of other assets ..............................................      1,040         327
  Maturities and prepayments of investment securities .................................     10,039       3,902
  Maturities and prepayments of mortgage-backed securities ............................     27,051       9,746
  Purchases of investments ............................................................    (30,850)    (15,000)
  Purchases of mortgage-backed securities .............................................    (54,549)    (13,826)
  Sale of FHLB stock ..................................................................         64         503
  Capital expenditures for premises and equipment .....................................     (5,483)       (620)
                                                                                          --------    --------
        Net cash provided by (used for) investment activities .........................    (23,349)     13,353

Cash flows from financing activities:
  Net (decrease) in deposits ..........................................................     (1,243)    (11,995)
  Issuance of additional common stock .................................................          0      50,483
  Dividends paid to stockholders ......................................................     (1,615)       (421)
  Repurchase of common stock ..........................................................     (4,676)          0
  Exercise of options .................................................................        150         289
  Net increase in borrowed money ......................................................      3,880      19,984
  Increase in advances from borrowers for insurance and taxes .........................        270         583
                                                                                          --------    --------
        Net cash provided by (used for) financing activities ..........................     (3,234)     58,923

Net increase (decrease) in cash and cash equivalents ..................................    (27,472)     78,921

Cash and cash equivalents at beginning of period ......................................     46,999      20,939
                                                                                          --------    --------
Cash and cash equivalents at end of period ............................................   $ 19,527    $ 99,860
                                                                                          ========    ========
</TABLE>

See accompanying notes to consolidated financial statements.


                                       5
<PAGE>

                       CITIZENS SOUTH BANKING CORPORATION
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 - Basis of Presentation

      In management's opinion, the accompanying consolidated financial
statements, which are unaudited, reflect all adjustments, consisting solely of
normal recurring accruals, necessary for a fair presentation of the financial
information as of and for the three- and nine-month periods ended September 30,
2003 and 2002, in conformity with accounting principles generally accepted in
the United States of America. Results for the three and nine months ended
September 30, 2003, are not necessarily indicative of the results that may be
expected for the year ending December 31, 2003.

      The consolidated financial statements include the accounts of Citizens
South Banking Corporation (the "Company") and the Company's wholly-owned
subsidiary, Citizens South Bank (the "Bank").

      Per share amounts and average shares outstanding have been adjusted to
reflect the 2.1408-for-1 exchange ratio used in the stock offering that closed
on September 30, 2002, discussed in Note 2.

      The organization and business of the Company, accounting policies
followed, and other related information are contained in the notes to the
consolidated financial statements of the Company as of and for the years ended
December 31, 2002, 2001, and 2000, filed as part of the Company's annual report
on Form 10-K. These consolidated financial statements should be read in
conjunction with the annual consolidated financial statements.

      The Company's critical accounting policy relates to the evaluation of the
allowance for loan losses which is based on management's opinion of an amount
that is adequate to absorb losses in the Company's existing portfolio. The
allowance for loan losses is established through a provision for loan losses
based on available information including the composition of the loan portfolio,
historical loan losses, specific impaired loans, availability and quality of
collateral, age of the various portfolios, changes in local economic conditions,
and loan performance and quality of the portfolio. Different assumptions used in
evaluating the adequacy of the Company's allowance for loan losses could result
in material changes in the Company's consolidated financial condition or
consolidated financial results of operations. The Company's policies with
respect to the methodology for determining the allowance for loan losses involve
a higher degree of complexity and require management to make subjective
judgments that often require assumptions or estimates about uncertain matters.
These critical policies and their assumptions are periodically reviewed with the
Board of Directors.

      In accordance with the Statement of Financial Accounting Standards
("SFAS") No. 123, Accounting for Stock-Based Compensation, as amended by SFAS
No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure -
An Amendment of FASB Statement No. 123, the Company has adopted the
disclosure-only option and elected to apply the provisions of APB No. 25 for
financial statement purposes. As such, no stock-based employee compensation cost
is reflected in net income for the Company's stock option plans.


                                       6
<PAGE>

      Pro forma information regarding net income and earnings per share have
been determined as if the Company had accounted for its employee stock options
using the fair value method, and is presented below (note that earnings per
share numbers for the three and nine months ended September 30, 2002, have been
adjusted to reflect the exchange ratio of 2.1408-to-1):

<TABLE>
<CAPTION>
                                                   Three months ended         Nine Months ended
                                                      September 30,              September 30,
                                                  ---------------------     ---------------------
                                                    2003         2002         2003         2002
                                                    ----         ----         ----         ----
<S>                                               <C>          <C>          <C>          <C>
Net income (in thousands):
    As reported ..............................    $     94     $  1,200     $  2,424     $  3,323
        Deduct: Total stock-based employee
        compensation cost determined under
        the fair value method, net of tax ....         (10)         (17)        (131)         (52)
                                                  --------     --------     --------     --------
    Pro forma ................................    $     84     $  1,183     $  2,293     $  3,271
                                                  --------     --------     --------     --------

Basic earnings per share:
     As reported .............................    $   0.01     $   0.14     $   0.28     $   0.38
     Pro forma ...............................    $   0.01     $   0.13     $   0.26     $   0.37

Diluted earnings per share:
     As reported .............................    $   0.01     $   0.13     $   0.28     $   0.37
     Pro forma ...............................    $   0.01     $   0.13     $   0.26     $   0.37
</TABLE>

      The fair value of each option grant is estimated on the date of the grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions used for the three- and nine-month periods ending September 30, 2003
and 2002: dividend yield of 3.27%, expected volatility of 20%, risk-free
investment rate of 5.0%, and expected lives of 7 years.

Note 2 - Mutual-to-Stock Conversion and Related Stock Offering

      On September 30, 2002, the mutual-to-stock conversion of Citizens South
Holdings, MHC, the mutual holding company (the "Mutual Holding Company") of
Citizens South Banking Corporation, the predecessor of the Company, and the
related stock offering of the Mutual Holding Company's ownership interest in
Citizens South Banking Corporation were completed. In conjunction with the stock
offering, the Company sold 5,259,945 shares of common stock at $10.00 per share.
Net proceeds from the stock offering amounted to $45.6 million.

      Prior to the completion of the conversion, the Mutual Holding Company
owned 2,457,007 shares, or approximately 58.4% of the outstanding shares of
common stock in Citizens South Banking Corporation. Upon conversion, each share
of the $1.00 par value per share, common stock of Citizens South Banking
Corporation held by the public was exchanged for 2.1408 shares of $0.01 par
value per share, common stock of the Company which preserved the previous
shareholders' ownership interest in Citizens South Banking Corporation. As a
result, all historical financial information that is based on or derived from
the actual or average number of outstanding shares of common stock during any
period prior to September 30, 2002, has been appropriately adjusted to reflect
the exchange ratio of 2.1408-to-1. The conversion was accounted for as a change
in corporate form with no subsequent change in historical basis for the
Company's assets, liabilities, and equity. A special liquidation account is
maintained for the benefit of eligible account holders in the unlikely event of
a complete liquidation of the Company, as defined in the plan of conversion.


                                       7
<PAGE>

Note 3 - Use of Estimates

      The financial statements are prepared in accordance with accounting
principles generally accepted in the United States of America which require
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Actual results could differ
from those estimates.

Note 4 - Earnings per Share

      Earnings per share has been determined under the provisions of SFAS No.
128, Earnings Per Share. The only potential stock of the Company, as defined in
SFAS No. 128, Earnings Per Share, is stock options granted to various directors
and officers of the Bank. The following is a summary of the diluted earnings per
share calculation for the three and nine months ended September 30, 2003 and
2002 (dollars in thousands, except share and per share data):

<TABLE>
<CAPTION>
                                               Three Months Ended          Nine Months Ended
                                                  September 30,               September 30,
                                            ------------------------    ------------------------
                                               2003          2002          2003          2002
                                               ----          ----          ----          ----

<S>                                         <C>           <C>           <C>           <C>
Net income .............................    $       94    $    1,200    $    2,424    $    3,323

Weighted average outstanding shares ....     8,596,575     8,790,445     8,670,591     8,779,548
Dilutive effect of stock options .......       146,244       154,741       139,789        83,493
                                            ----------    ----------    ----------    ----------
Weighted average diluted shares ........     8,742,819     8,945,186     8,810,380     8,863,041

Diluted earnings per share .............    $     0.01    $     0.13    $     0.28    $     0.37
</TABLE>

Note 5 - Stock Compensation Plans

      On April 12, 1999, the Company's shareholders approved the Citizens South
Bank 1999 Stock Option Plan that provided for the issuance of 211,335 options
for directors and officers to purchase the Company's common stock. Pursuant to
the conversion, the 211,335 options to purchase shares of common stock under the
1999 Stock Option Plan were converted for 452,425 options, with the exercise
prices of the previously granted options adjusted according to the same
2.1408-to-1 ratio. As of September 30, 2003, 301,875 options were issued and
unexercised, including 45,034 reload options. Also, 175,050 options had been
exercised and 20,534 options were unissued. The issued and unexercised options
had a converted weighted average exercise price of $6.72 and a weighted average
contractual life of 68 months. There were 278,324 options fully vested as of
September 30, 2003, of which 67% were incentive options and 33% were
non-statutory stock options.

      On October 23, 2003, the Company's shareholders approved the Citizens
South Banking Corporation 2003 Stock Option Plan that provided for the issuance
of up to 525,995 options for certain directors and officers to purchase the
Company's common stock.

      Also, on October, 23, 2003, the Company's shareholders approved the
Citizens South Banking Corporation 2003 Recognition and Retention Plan that
provided for the granting of up to 210,398 shares of Company stock to certain
directors and officers.


                                       8
<PAGE>

Note 6 - Dividend Declaration

      On October 20, 2003, the Board of Directors of the Company approved and
declared a regular cash dividend of $0.06 per share of common stock to
shareholders of record as of November 1, 2003 and payable on November 15, 2003.

Note 7 - Stock Repurchase Program

      On October 20, 2003, the Board of Directors of the Company authorized the
repurchase of up to 879,900 shares, or approximately 10% of the Company's
outstanding common stock. The stock repurchase program may be carried out
through open market purchases, block trades, and in negotiated private
transactions. The stock may be repurchased on an ongoing basis and will be
subject to the availability of stock, general market conditions, the trading
price of the stock, alternative uses for capital, and the Company's financial
performance. Any repurchased shares will be held as treasury stock and will be
available for general corporate purposes. A previously authorized repurchase
program of 343,027 shares, or 3.8% of outstanding shares, was completed in
September 2003.

Note 8 - Impact of Recently Issued Accounting Standards

      SFAS No. 146, Accounting for Costs Associated with Exit or Disposal
Activities, was issued in June 2002 and addresses financial accounting and
reporting for costs associated with exit or disposal activities. This statement
is effective for exit or disposal activities initiated after December 31, 2002;
its adoption effective January 1, 2003 did not have a material impact on the
financial statements of the Company.

      SFAS No. 148, Accounting for Stock-Based Compensation - Transition and
Disclosure - An Amendment of FASB Statement No. 123, was issued in December 2002
and provides alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee compensation. In
addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to
require prominent disclosures in both annual and interim financial statements
about the method of accounting for stock-based employee compensation and the
effect of the method used on reported results. The disclosure requirements of
this statement are effective for fiscal years ending after December 15, 2002 and
are included in these interim financial statements.

      SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and
Hedging Activities, was issued in April 2003 and amends SFAS No. 133 for certain
decisions made by the Financial Accounting Standards Board as part of the
Derivatives Implementation Group process and to clarify the definition of a
derivative. This statement is effective for contracts entered into or modified
after June 30, 2003, except for certain specific issues already addressed by the
Derivatives Implementation Group and declared effective that are included in the
statement. The adoption of the provisions of this statement is not expected to
have a material impact on the financial statements of the Company.

      SFAS No. 150, Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity, was issued in May 2003 and
establishes standards for how to classify and measure certain financial
instruments with characteristics of both liabilities and equity. This statement
is effective for financial instruments entered into or modified after May 31,
2003, and otherwise is effective at the beginning of the first interim period
beginning after June 15, 2003. The adoption of the provisions of this statement
did not have a material impact on the financial statements of the Company.


                                       9
<PAGE>

      FASB Interpretation No. 45, Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Guarantees of Indebtedness of Others an
interpretation of FASB Statements No. 5, 57, and 107 and rescission of FASB
Interpretation No. 34 was issued in November 2002 and elaborates on the
disclosures to be made by a guarantor in its interim and annual financial
statements about its obligations under certain guarantees that it has issued. It
also clarifies that a guarantor is required to recognize, at the inception of a
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The adoption of the provisions of this FASB
Interpretation did not have a material impact on the financial statements of the
Company.

      FASB Interpretation No. 46, Consolidation of Variable Interest Entities an
interpretation of ARB No. 51 was issued in January 2003 and addresses
consolidation by business enterprises of variable interest entities. The Company
does not have a variable interest entities as defined by this Interpretation and
therefore, the adoption of the provisions of this FASB Interpretation did not
have a significant effect on financial position or results of operations of the
Company.


                                       10
<PAGE>

ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
        of Operations

Forward Looking Statements

      From time to time, the Company may publish forward looking statements
relating to such matters as anticipated financial performance, business
prospects, technological developments, new products, and similar matters. The
Private Securities Litigation Reform Act of 1995 provides a safe harbor for
forward looking statements provided that the Company notes that a variety of
factors could cause the Company's actual results to differ materially from the
anticipated results expressed in the Company's forward looking statements.
Factors that may cause actual results to differ materially from those projected
in the forward looking statements include, but are not limited to, general
economic conditions that are less favorable than expected, changes in market
interest rates that result in reduced interest margins, risks in the loan
portfolio, including prepayments, are greater than expected, legislation or
regulatory changes that have a less than favorable impact on the business of the
Company are enacted, and competitive pressures increase significantly.
Statements included in this report should be read in conjunction with the
Company's Annual Report on Form 10-K which is incorporated into this discussion
by this reference. Forward looking statements speak only as of the date they are
made and the Company does not undertake to update forward looking statements to
reflect circumstances or events that occur after the date of the forward looking
statements or to reflect the occurrence of unanticipated events. Accordingly,
past results and trends should not be used by investors to anticipate future
results or trends.

Comparison of Financial Condition

      Assets. Total assets of the Company decreased by $3.3 million, or 0.7%,
from $492.6 million as of December 31, 2002, to $489.3 million as of September
30, 2003. This decrease was primarily due to the repurchase of $4.7 million of
Company common stock. During the nine-month period, the Company invested excess
liquidity into mortgage-backed securities resulting in a $15.0 million, or
21.3%, increase in mortgage-backed securities to $85.4 million. This excess
liquidity was due to the $45.6 million in net proceeds received from the
September 30, 2002, stock offering and the increased level of prepayments on
residential mortgage loans. As a result of these historically high levels of
mortgage loan prepayments, net loans decreased by $11.2 million to $288.7
million. Most of these prepayments were concentrated in the one-to-four family
permanent residential mortgage loan portfolio, which decreased by $30.4 million,
or 20.5%, to $117.7 million. The portfolio of one-to-four family permanent
residential loans also decreased due to the fact that management typically
originates all new fixed-rate residential loans in the name of various third
party investors. By closing and funding these loans in the name of a third
party, the Company reduces its overall vulnerability to rising interest rates
and immediately recognizes fee income from the origination of these loans. In
addition, this program allows the Bank to offer a broader range of mortgage loan
products to its customers. During the same period, the combined gross portfolios
for all other loans, including residential construction, multifamily
residential, commercial mortgage, land, commercial business, and consumer loans,
increased by $20.2 million, or 12.7%, to $179.8 million. Management will
continue to seek to grow these loan portfolios in a safe and sound manner with
an emphasis on adjustable-rate loans or shorter-term fixed rate loans. Also
during the period, the Company sold a large parcel of real estate owned for $1.1
million, purchased a $2.0 million parcel of property to be used for a branch
relocation and a new corporate office with available outparcels, and purchased
$3.0 million in bank-owned life insurance. The Company also completed the
construction of the Company's tenth full-service office in Mooresville, NC, and
completed the renovations of the Salisbury, NC, and Rockwell, NC offices during
the third quarter of 2003.


                                       11
<PAGE>

      Allowance for loan losses and nonperforming assets. The Company has
established a systematic methodology for determining the adequacy of the
allowance for loan losses. This methodology is set forth in a formal policy and
considers all loans in the portfolio. Specific allowances are established for
certain individual loans that management considers impaired. The remainder of
the portfolio is segmented into groups of loans with similar risk
characteristics for evaluation and analysis. Management's periodic evaluation of
the allowance is consistently applied and based on inherent losses in the
portfolio, past loan loss experience, risks inherent in the different types of
loans, the estimated value of any underlying collateral, current economic
conditions, the borrower's financial position, and other relevant internal and
external factors that may affect loan collectibility. The allowance for loan
losses is increased by charging provisions for loan losses against income. As of
September 30, 2003, the allowance for loan losses amounted to $3.0 million.
Management believes that this amount meets the requirement for losses on loans
that management considers to be impaired, for known losses, and for incurred
losses inherent in the remaining loan portfolios. Although management believes
that it uses the best information available to make such determinations, future
adjustments to the allowance for loan losses may be necessary and results of
operations could be significantly adversely affected if circumstances differ
substantially from the assumptions used in making the determinations. The
following table presents an analysis of changes in the allowance for loan losses
for the periods and information with respect to nonperforming assets at the
dates indicated.

<TABLE>
<CAPTION>
                                          At and For the Three        At and For the Nine
                                       Months Ended September 30,  Months Ended September 30,
                                       --------------------------  --------------------------
                                          2003          2002          2003          2002
                                          ----          ----          ----          ----
                                        (dollars in thousands)       (dollars in thousands)
<S>                                     <C>           <C>           <C>           <C>
Allowance for loan losses:
Beginning of period ...............     $  3,002      $  3,093      $  2,995      $  3,136
Add:
    Provision for loan losses .....           15            70            45           205
    Recoveries ....................            3             0             5             2
Less:
    Charge-offs ...................           13           198            38           378
                                        --------      --------      --------      --------
End of period .....................     $  3,007      $  2,965      $  3,007      $  2,965

Nonaccrual loans ..................     $  1,102      $    710      $  1,102      $    710
Real estate owned .................          169         1,298           169         1,298
                                        --------      --------      --------      --------
Nonperforming assets ..............     $  1,271      $  2,008      $  1,271      $  2,008

 Allowance for loan losses as a
     percentage of total loans ....         1.01%         0.93%         1.01%         0.93%

Nonperforming loans to
     total loans ..................         0.38%         0.22%         0.38%         0.22%

Nonperforming assets to
      total assets ................         0.26%         0.39%         0.26%         0.39%
</TABLE>

      Interest income that would have been recorded for the nine months ended
September 30, 2003 and 2002, had nonaccruing loans had been current in
accordance with their original terms amounted to $32,000 and $39,000,
respectively.


                                       12
<PAGE>

      Liabilities. Total liabilities increased by $1.5 million, or 0.4%, from
$396.2 million as of December 31, 2002, to $397.7 million as of September 30,
2003. This increase was primarily due to a $3.9 million increase in borrowed
money. During the nine month period, the Company repaid a $5.0 million Federal
Home Loan Bank adjustable rate advance and replaced these funds with $10.0
million of fixed rate advances. These additional borrowed funds were used to
purchase mortgage-backed securities. Total borrowings, including repurchase
agreements, increased $3.9 million, or 8.2%, to $51.4 million. Also during the
quarter, total deposits decreased by $1.2 million, or 0.4%. Core deposits, which
include checking accounts, savings accounts, and money market deposit accounts,
increased by $9.7 million, or 8.3%, to $126.1 million as of September 30, 2003.
These increases were offset by a $10.9 million decrease in higher-costing time
deposits to $213.5 million. Management plans to continue in its efforts to gain
deposit market share through new product development and branch expansion with
an emphasis on core deposits.

      Equity. Total equity decreased by $4.7 million, or 4.9%, from $96.4
million as of December 31, 2002, to $91.7 million as of September 30, 2003. The
decrease in equity was primarily due to the repurchase of 342,200 shares of
common stock for $4.7 million, at an average cost of $13.66 per share. The
Company received regulatory approval to repurchase 343,027 shares of common
stock on March 28, 2003, for purposes of acquiring shares for its stock option
plan. As of September 30, 2003, the Company had completed the repurchase of
shares of common stock for its option plan. On October 20, 2003, the Company
announced that the Board of Directors had authorized the repurchase of an
additional 879,900 shares, or approximately 10.0% of the Company's outstanding
common stock. Management will consider repurchasing additional shares of common
stock of the Company at prices that are considered to be attractive and in the
best interests of both the Company and its investors. In addition, the Company
paid cash dividends totaling $1.6 million during the nine-month period,
representing $0.18 per share, and recorded a $1.1 million decrease in unrealized
gains on available-for-sale securities. These decreases in equity were partially
offset by $2.4 million in earnings.

Comparison of Results of Operations for the Three Months Ended September 30,
2003 and 2002

      General. Net income for the Company for the three months ended September
30, 2003, amounted to $94,000, or $0.01 per diluted share, as compared to $1.2
million, or $0.13 per diluted share, for the three months ended September 30,
2002.

      Net interest income. Net interest income decreased by $617,000, or 17.0%,
to $3.0 million for the three months ended September 30, 2003. Interest income
decreased by $948,000, or 15.4%, primarily as a result of a 139 basis point, or
22.9%, decrease in the average yield on earning assets to 4.69%. The decrease in
yield was partially offset by a $35.5 million, or 8.6%, increase in the average
outstanding balance of interest earning assets to $448.7 million. The increase
in average interest earning assets was primarily due to the $45.6 million in net
proceeds received from the stock offering that closed on September 30, 2002 as
described in Note 2. Interest expense decreased by $331,000, or 13.1%, during
the period. This reduction in interest expense was due to a 28 basis point, or
10.8%, reduction in the average cost of funds to 2.31%, and a $10.3 million, or
2.7%, decrease in the average balance of interest-bearing liabilities to $377.8
million. Average interest-bearing liabilities decreased primarily as a result of
a $21.3 million decrease in average certificates of deposit, the effects of
which were offset by a $10.5 million increase in average core deposits. The net
interest margin for the Company was 3.17% for the quarter ended September 30,
2002, compared to 2.43% for the quarter ended September 30, 2003. The net
interest margin decreased primarily as a result of an increased level of
mortgage loan refinancings and decreases in the yield on prime-based consumer
and commercial loans.

      Provision for loan losses. The provision for loan losses amounted to
$15,000 for the three months ended September 30, 2003, compared to $70,000 for
the three months ended September 30, 2002. The amount of the provision for loan
losses was reduced, in part, due to a reduction in the amount of outstanding
loans


                                       13
<PAGE>

resulting from the increased level of residential loan prepayments. The
allowance for loan losses was $3.0 million, or 1.01% of total loans, as of
September 30, 2003, compared to $3.0 million, or 0.93% of total loans, as of
September 30, 2002. The ratio of the allowance for loan losses to gross loans
has increased during the past year due, in part, to the increased concentration
of commercial real estate and commercial business loans during the past year.
Also, while our level of nonperforming loans remains below our peer group
average, the trend of nonperforming loans has increased from 0.22% of total
loans on September 30, 2002, to 0.38% of total loans on September 30, 2003.

      Noninterest income. Noninterest income increased to $1.2 million for the
three months ended September 30, 2003, as compared to $1.1 million for the three
months ended September 30, 2002. This represents an increase of $93,000, or
8.7%. This increase was partly due to a $58,000, or 31.7%, increase in fee
income derived from lending and mortgage banking activities resulting from
higher residential loan originations. These residential loans are generally
originated on behalf of a third party and all fees collected are recognized as
current period income. Income on deposit accounts increased $16,000, or 2.7%,
due, in part, to the increased number of fee-generating demand deposit accounts.
Management plans to continue in its efforts to increase its outstanding balance
of fee-generating demand deposit accounts through targeted advertising and
branch expansion. Other noninterest income decreased $58,000, or 24.1%, due, in
part, to reduced income derived from the operation of a commercial parcel of
real estate owned.

      During the quarter ended September 30, 2003, the Company recognized a gain
of $108,000 resulting primarily from the sale of $3.9 million in mortgage-backed
securities. During the quarter ended September 30, 2002, the Company recognized
a gain of $11,000 resulting from the sale of $57,000 in loan participations and
$171,000 in real estate acquired through foreclosure.

      Noninterest expense. Noninterest expense amounted to $4.1 million for the
quarter ended September 30, 2003, compared to $2.8 million for the quarter ended
September 30, 2002, representing an increase of $1.3 million, or 46.4%. This
increase was largely due to a $1.3 million pre-tax prepayment penalty associated
with the restructuring of $15.0 million in borrowed funds. This action was taken
by the Company in an effort to capitalize on historically low interest rates,
lower the Company's cost of funds, and improve the Company's net interest
margin. This restructuring reduced the average interest rate paid on these
borrowed funds from 5.8% to 1.8%, resulting in an immediate reduction in
interest expense of $150,000 per quarter for the first year. The reduction in
interest expense is expected to amount to approximately $1.7 million over the
next five years.

      Excluding the $1.3 million prepayment penalty, noninterest expense
increased by $93,000, or 3.4%. This increase was primarily due to a $166,000, or
12.3%, increase in compensation and benefits, due, in part, to increased
staffing associated with the opening of the Company's tenth full-service office
in Mooresville, North Carolina, in July 2003. Professional services increased
$61,000, or 117.3%, due to additional outside services being needed to operate a
fully-public company and to ensure proper corporate governance in light of new
regulatory requirements. These increases were offset by a $109,000, or 54.5%,
reduction in the amortization of the core deposit premium. The core deposit
intangible, created as a result of the Company's acquisition of Innes Street
Financial Corporation ("Innes Street") in December 2001, is being amortized over
a seven-year period using the accelerated method. Also, the Company realized a
$110,000, or 13.5%, reduction in noninterest expense. This reduction was due in
part to a $38,000, or 36.9%, reduction in advertising expense. Advertising
expenses were higher in 2002 because of the acquisition of Innes Street and the
change in the name of the Company and the Bank in the first half of 2002. Other
noninterest expenses also decreased, in part, due to reduced expenses associated
with the operation of a commercial parcel of real estate owned.


                                       14
<PAGE>

      During the quarter ended September 30, 2003, the Company recognized a loss
of $85,000 resulting primarily from the sale of $6.8 million in mortgage-backed
securities. During the quarter ended September 30, 2002, the Company had no
material losses on the sale of assets.

      Income taxes. Income taxes amounted to a $94,000 tax benefit for the
quarter ended September 30, 2003, as compared to $651,000, or 35.2% of taxable
income, for the quarter ended September 30 2002. This reduction in income taxes
is primarily due to a $1.9 million decrease in net income before taxes and a
reduction in the estimated effective rate for the year from 35.7% to 29.8%.

Comparison of Results of Operations for the Nine Months Ended September 30, 2003
and 2002

      General. Net income for the Company for the nine months ended September
30, 2003, amounted to $2.4 million, or $0.28 per diluted share, as compared to
$3.3 million, or $0.37 per diluted share, for the nine months ended September
30, 2002.

      Net interest income. Net interest income decreased by $959,000, or 9.0%,
to $9.9 million for the nine months ended September 30, 2003. Interest income
decreased by $1.9 million, or 10.1%, primarily as a result of a 123 basis point,
or 19.7%, decrease in the average yield on earning assets to 5.01%. The decrease
in yield was partially offset by a $48.3 million, or 12.0%, increase in the
average outstanding balance of interest earning assets to $452.1 million. The
increase in average interest earning assets was primarily due to the $45.6
million in net proceeds received from the stock offering that closed on
September 30, 2002, as described in Note 2. Interest expense decreased by
$933,000, or 12.0%, during the comparable period. This reduction in interest
expense was due to a 29 basis point, or 10.7%, reduction in the average cost of
funds to 2.41%, and a $5.6 million, or 1.5%, decrease in the average balance of
interest-bearing liabilities to $378.7 million. Average interest-bearing
liabilities decreased primarily as a result of a decrease in deposits following
the Innes Street acquisition. Many of these deposits were higher costing time
deposits that were not renewed following maturity. The net interest margin for
the Company was 3.24% for the nine months ended September 30, 2002, compared to
2.67% for the nine months ended September 30, 2003. The net interest margin
decreased primarily as a result of an increased level of mortgage loan
refinancings and decreases in the yield on prime-based consumer and commercial
loans.

      Provision for loan losses. The provision for loan losses amounted to
$45,000 for the nine months ended September 30, 2003, compared to $205,000 for
the nine months ended September 30, 2002. The amount of the provision for loan
losses was reduced, in part, due to a reduction in the amount of outstanding
loans resulting from the increased level of residential loan prepayments.
Management establishes the provision for loan losses based on available
information including the composition of the loan portfolio, historical loan
losses, specific impaired loans, availability and quality of collateral, age of
the various portfolios, changes in local economic conditions, and loan
performance and quality of the portfolio. There have been no material changes in
management's methods for determining the provision for loan losses during the
past year. The allowance for loan losses was $3.0 million, or 1.01% of total
loans, as of September 30, 2003, compared to $3.0 million, or 0.93% of total
loans, as of September 30, 2002. The ratio of the allowance for loan losses to
gross loans has increased during the past year due, in part, to the increased
concentration of commercial real estate and commercial business loans during the
past year. Also, while our level of nonperforming loans remains below our peer
group average, the trend of nonperforming loans has increased from 0.22% of
total loans on September 30, 2002, to 0.38% of total loans on September 30,
2003. Future loan loss provisions will be made based on management's analysis
and review of the information cited above.

      Noninterest income. Noninterest income increased by $613,000, or 20.5%, to
$3.6 million for the nine months ended September 30, 2003, as compared to $3.0
million for the nine months ended September 30, 2002.


                                       15
<PAGE>

This increase was primarily due to a $256,000, or 51.6%, increase in fee income
derived from lending and mortgage banking activities resulting from higher
residential loan originations. The Company experienced higher than normal levels
of residential loan originations in 2003 due to historically low levels of
long-term interest rates. As long-term interest rates move to higher levels, the
Company would expect to originate fewer loans and collect less loan fee income.
The Company generally originates fixed rate residential loans on behalf of a
third party and recognizes all fees collected as current period income. Income
on deposit accounts increased $100,000, or 5.9%, due, in part, to the increased
number of fee-generating demand deposit accounts. Management plans to continue
in its efforts to increase its outstanding balance of fee-generating demand
deposit accounts through targeted advertising and branch expansion. Other
noninterest income increased $33,000, or 5.5%, due, in part, to income derived
from the increase in cash value on $3.0 million in bank-owned life insurance
purchased in 2003.

      During the nine months ended September 30, 2003, the Company recognized a
gain of $168,000 resulting primarily from the sale of a $5.0 million investment
security and $3.9 million in mortgage-backed securities. During the nine months
ended September 30, 2002, the Company recognized a gain of $119,000 from the
sale of $3.1 million in mortgage-backed securities, $2.0 million in investment
securities, $1.3 million in loans, and miscellaneous real estate acquired
through foreclosure and fixed assets.

      Noninterest expense. Noninterest expense amounted to $10.0 million for the
nine months ended September 30, 2003, compared to $8.5 million for the nine
months ended September 30, 2002, representing an increase of $1.5 million, or
17.6%. This increase was largely due to a $1.3 million prepayment penalty
associated with the restructuring of $15.0 million in borrowed funds. This
action was taken by the Company in an effort to capitalize on historically low
interest rates, lower the Company's cost of funds, and improve the Company's net
interest margin. This restructuring reduced the average interest rate paid on
these borrowed funds from 5.8% to 1.8%, resulting in an immediate reduction in
interest expense of $150,000 per quarter for the first year. The reduction in
interest expense is expected to amount to approximately $1.7 million over the
next five years.

      Excluding the $1.3 million prepayment penalty on borrowed funds,
noninterest expense increased by $243,000, or 2.9%. This increase was largely
due to a $456,000, or 11.3%, increase in compensation and benefits due, in part,
to increased staffing associated with the opening of the Company's tenth
full-service office in Mooresville, North Carolina, in July 2003. Professional
services increased $214,000, or 93.0%, due to additional outside services being
needed to operate a fully-public company and to ensure proper corporate
governance in light of new regulatory requirements. Also, the fair value
adjustment on deferred compensation increased by $241,000, which was offset by a
corresponding increase in noninterest income. These increases were offset by a
$485,000 reduction in the amortization of the core deposit premium. The core
deposit intangible, created as a result of the Company's acquisition of Innes
Street in December 2001, is being amortized over a seven-year period using an
accelerated method. Also, other noninterest expense decreased $130,000, or 5.5%,
due, in part, to an $80,000 reduction in data processing expense and a $56,000
reduction in advertising expense. Advertising expenses were higher in 2002 as a
result of the change in the name of the Company from Gaston Federal Bancorp,
Inc, to Citizens South Banking Corporation and the acquisition of Innes Street
Financial Corporation. Data processing expenses were also higher in 2002 as a
result of the acquisition of Innes Street.

      Income taxes. Income taxes amounted to $1.0 million, or 29.8% of taxable
income, for the nine months ended September 30, 2003, as compared to $1.8
million, or 35.7% of taxable income, for the nine months ended September 30
2002. This reduction in the effective tax rate is primarily due to the benefits
derived for owning an increased amount of tax-advantaged assets such as
municipal securities, bank-owned life insurance, and government agency
securities.


                                       16
<PAGE>

Liquidity, Market Risk, and Capital Resources

      The objective of the Company's liquidity management policy is to ensure
the availability of sufficient funds to meet the cash needs of borrowers and
depositors and to provide funds necessary to maintain the normal operations of
the Company. The Company's liquidity is primarily affected by fluctuations in
deposit and lending activities, maturities of investments and borrowed money,
and investments in capital improvements and market expansion. Its liquidity is
also impacted by certain off-balance sheet items such as loan commitments,
unfunded portions of construction loans, and unused lines of credit. At
September 30, 2003, the Company had loan commitments of $24.8 million,
undisbursed portions of construction loans of $6.3 million, and unused lines of
credit of $70.1 million. Neither the Company nor its subsidiaries have incurred
off-balance sheet obligations through the use of or investment in derivative
financial instruments or structured finance or special purpose entities
organized as corporations, partnerships, limited liability companies, or trusts.

      The Company's primary sources of internally generated funds are principal
and interest payments on loans receivable, cash flows generated from operations,
cash flows generated by investment and mortgage-backed securities, and growth in
core deposits. As of September 30, 2003, the Company's cash and due from banks
and interest-earning bank balances totaled $19.5 million compared to $47.0
million as of December 31, 2002. This $27.5 million decrease was largely due to
a $23.3 million decrease in net cash used for investment activities. These
investment activities include the purchase of $54.5 million in mortgage-backed
securities, the purchase of $30.9 million in investment securities and $5.5
million in capital expenditures. These capital expenditures included the
acquisition of land for a branch relocation and a new corporate office in
Gastonia, NC, construction of a new branch in Mooresville, NC, and remodeling
and renovations to the branch offices in Salisbury, NC, and Rockwell, NC. The
decrease in cash for investment activities was partly offset by a $11.1 million
decrease in outstanding loans, the $11.2 million sale of mortgage-backed
securities, the $7.0 million sale of investment securities, the $1.0 million
sale of real estate owned, $27.1 million in maturities and prepayments on
mortgage-backed securities and $10.0 million in maturities and calls on
investment securities. The Company also used $3.2 million for financing
activities. These financing activities primarily consisted of a $1.2 million
decrease in deposits, $1.6 million in dividend payments to shareholders and $4.7
million used to repurchase shares of common stock. These uses of cash were
partly offset by a $3.9 million increase in borrowed money. The Company used
$889,000 for operating activities. These funds were primarily used to purchase
$3.0 million in bank-owned life insurance, the effects of which were partly
offset by net income of $2.4 million.

      The Company's external sources of funds include large denomination
wholesale deposits and advances from the Federal Home Loan Bank of Atlanta
("FHLB"). If the Company requires funds beyond its internal funding
capabilities, the Company has $71.3 million in additional advances available
from its line of credit with the FHLB. These FHLB advances are secured by a
blanket lien on first mortgage residential loans held by the Company. Given the
Company's current liquidity position, availability of credit, and cash flows
from internal sources, management believes that the Company has the ability to
meet deposit withdrawals on demand or at contractual maturity, to repay
borrowings as they mature, and to fund new loans and commitments as
opportunities arise.

      The Company's most significant form of market risk is interest rate risk,
as the Company's assets and liabilities are sensitive to changes in interest
rates. The Company's Asset / Liability Committee ("ALCO") is responsible for
monitoring its level of interest rate risk and ensuring compliance with
Board-adopted limits. During the 2003 fiscal year, the Company purchased $54.5
million in mortgage-backed securities with excess liquidity held by the Company
as a result of the September 2002 stock offering. These mortgage-backed
securities typically have a balloon or interest rate adjustment after an initial
seven- or five-year period, or have a fixed rate for ten years based on a
ten-year amortization schedule. There were no other changes in the


                                       17
<PAGE>

Company's asset or liability composition that could result in a material change
in the Company's analysis of interest rate sensitivity as discussed in the
Company's Annual Report on Form 10-K for the year ended December 31, 2002.

      The Bank is subject to various regulatory capital requirements
administered by the banking regulatory agencies. As of September 30, 2003,
Citizens South Bank's level of capital exceeded all applicable regulatory
requirements. Citizens South Bank's Tier I capital was $60.2 million, or 12.6%
of adjusted assets. The minimum Tier I capital ratio is 4.00%. Failure to meet
minimum capital requirements can initiate certain mandatory and possibly
discretionary actions by the regulators that, if undertaken, could have a direct
material effect on the Bank's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank
must meet specific capital guidelines that involve quantitative measures of the
Bank's assets, liabilities, and certain off-balance sheet items as calculated
under regulatory accounting practices. The Bank's capital amounts and
classifications are subject to qualitative judgments by the regulators about
components, risk-weightings, and other factors.


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<PAGE>

ITEM 3. Quantitative and Qualitative Disclosures About Market Risk

      The information required by this item is included above in Item 2,
Management's Discussion and Analysis of Financial Condition and Results of
Operations, under the caption "Liquidity, Market Risk, and Capital Resources."

ITEM 4. Controls and Procedures

      Under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, the Company has evaluated the effectiveness of the design and operation
of its disclosure controls and procedures (as defined in Rule 13a-15(e) and
15d-15(e) under the Exchange Act) as of the end of the period covered by this
report. Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that, as of the end of the period covered by this
report, the Company's disclosure controls and procedures were effective to
ensure that information required to be disclosed in the reports that the Company
files or submits under the Exchange Act is recorded, processed, summarized and
reported, within the time periods specified in the SEC's rules and forms.

      There has been no change in the Company's internal control over financial
reporting identified in connection with the quarterly evaluation that occurred
during the Company's last fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.

PART II. OTHER INFORMATION

Legal Proceedings

      There are various claims and lawsuits in which the Bank is periodically
involved incidental to the Company's business. In the opinion of management, no
material loss is expected from any of such pending claims or lawsuits.

Changes in Securities and Use of Proceeds

      Not applicable.

Defaults Upon Senior Securities

      Not applicable.

Submission of Matters to a Vote of Security Holders

      There were no meetings of the shareholders during the quarter ended
September 30, 2003.


                                       19
<PAGE>

Exhibits and Report on Form 8-K.

(a) Exhibits:

            31.1 Certification of Chief Executive Officer pursuant to Section
            302 of the Sarbanes-Oxley Act of 2002.

            31.2 Certification of Chief Financial Officer pursuant to Section
            302 of the Sarbanes-Oxley Act of 2002.

            32.1 Written statement of Chief Executive Officer furnished pursuant
            to Section 906 of the Sarbanes-Oxley Act of 2002.

            32.2 Written statement of Chief Financial Officer furnished pursuant
            to Section 906 of the Sarbanes-Oxley Act of 2002.

(b) The Company filed the following reports on Form 8-K with the SEC during the
quarter ended September 30, 2003:

      (1)   July 23, 2003: The Company reported that on July 21, 2003, it had
            issued two press releases regarding 1) earnings for the quarter
            ended June 30, 2003, and 2) the declaration of a $0.06 dividend for
            shareholders of record on August 1, 2003.


                                       20
<PAGE>

SIGNATURES

      Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed by the undersigned thereunto
duly authorized.

                                       Citizens South Banking Corporation


Date: November 13, 2003                By:  /s/ Kim S. Price
                                           -------------------------------------
                                           Kim S. Price
                                           President and Chief Executive Officer


Date: November 13, 2003                By:   /s/ Gary F. Hoskins
                                           -------------------------------------
                                           Gary F. Hoskins
                                           Executive Vice President,
                                           Chief Financial Officer and Treasurer


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